Why Rent to Own?

Why Rent to Own? 

For those who can’t qualify for a conventional mortgage, a Rent to Own presents an excellent opportunity for first-time buyers to realize their dream of home ownership. 

Rent to own became a popular financing tool in the early 1980’s. Rent to Own was primarily used as a way to circumvent alienating clauses in mortgages. Skeptics claimed the sale was not really a sale because it was a lease; however, courts argued otherwise. Today, lease options and lease purchases are becoming more popular as a result of lending institutions tightening their guidelines in the wake of the economic downturn. The laws defining these financing documents are state specific and not all states have identical laws. The information below is an overview and is not intended to be construed as legal advice. Is Rent to Own right for you? That’s a question only you can answer, but I can tell you that’s it’s probably the easiest way to get into a home of your choice without all of the “red tape” that comes with a traditional bank qualification; and in most cases there may be little or no down payment required to get into the home. This makes Rent to Own a very attractive option for anyone concerned about meeting the banks credit requirements or having to come up with a large chunk of cash for a down payment. To help you better understand the difference between a conventional financing required for a traditional sale and a Rent to Own, we must first understand what conventional financing is and what is required to obtain it. 

Let’s take a look at the two and compare. Conventional Financing for a Traditional Sale A conventional loan is generally referring to a mortgage loan that follows the guidelines of government sponsored enterprises (GSE's) like Fannie Mae or Freddie Mac. Conventional loans may be either “conforming” or "non-conforming". Conforming loans follow the terms and conditions set by Fannie Mae and Freddie Mac. Non-conforming loans don't meet Fannie Mae or Freddie Mac guidelines, but they are also considered conventional. What are the Conventional Loan Requirements? Most banks will closely look at the following: • Your income and your monthly expenses. Standard debt-to-income ratios are 28/36 for conventional loans. These ratios may be exceeded with compensation factors. • Your credit history! A FICO score of 620 or above is required in obtaining an approval. • Your job history. Most banks want to see W-2’s for the previous two years. To be eligible for a conventional mortgage, your monthly housing costs (mortgage principal and interest, property taxes and insurance) must meet a specified percentage of your gross monthly income (28% ratio). 

Your credit background will be fairly considered. At least a 620 FICO credit score is generally required to obtain a conventional approval. You must also have enough income to pay your housing costs plus all additional monthly debt (36% ratio). What are the Conventional Down Payment Requirements? Conventional loans often require the home buyer to invest 10% - 20% of the sales price in cash for the down payment and closing costs. If the sales price is $100,000 for example, the home buyer must invest at least $10,000 - $20,000. Example of a Traditional Sale using Conventional Financing Purchase Price: $200,000 Minimum down payment (Non-FHA): 10% or $20,000 Conventional Financing Requirements: • W2 for previous 2 years • Pay stubs for the past 30 days • Credit check • Source of Down Payment • Debt-to-Income ratio not to exceed It seems like a lot and it is. Banks have tightened up their guidelines over the past few years, making it difficult for most people to obtain conventional financing. As a result, more and more people are exploring Rent to Own, as a creative path to home ownership. 

Let’s now take a lookat an example of a Rent to Own transaction based on a 24 month lease:

Purchase price: $200,000 Down Payment of 3% (typically 0-3%): $6,000 Monthly Rent credit (1.5%): $300 Amount Saved for Mortgage Down Payment: $13,200 Unless you have exceptional credit and a large down payment set aside, Rent to Own is an excellent option to get you into a home without being required to meet traditional bank standards. The bottom line? You get to move into your dream home for minimal outlay, no bank qualifying, and best of all, usually your option consideration is applied to the down payment when the option is exercised ( when you purchase the home). Also, depending on how your actual deal is structured, you may also be entitled to a rent credit each month. This is applied to the purchase price of the home. This way you are building equity with each rent payment. Let’s get started with the nuts and bolts of Rent to Own!